It is important to understand which factors are key for investors when it comes to making decisions on FDI location. There could be numerous factors which may be complex at times but based on various literature, research and expert views, certain determinants emerge which are used to evaluate the attractiveness of an FDI location.
These determinants are as follows:
- Country’s political and economic stability
- Geographic location
- Market size
- Cost of operations
- Infrastructure
- Availability of skilled labour
- Incentives and Taxation
Country’s political and economic stability:
Investors are keen to understand what sort of a political system prevails in a particular country and what has been its recent record in terms of its approach towards foreign investors. Every foreign investor is interested in knowing if the country has a ‘FDI friendly’ approach. Investors are put off by any indications of inconsistencies in terms of political decisions or ambiguous policies.
Investors are very interested to know how is the ‘financial health’ of the country. Simple indicators like GDP, GDP to Debt ratio, per capital income, rate of inflation, rate of unemployment, foreign exchange reserves gives one an idea to assess the financial health of the country.
Geographic location:
The location of the country is an important factor for reasons such as access to other neighboring markets, climatic conditions, accessibility and travel time from home country. If the country’s market size is in itself huge, there is not too much of a concern regarding access to neighboring markets since that would be secondary. An excellent case in point here is India and China. Climatic conditions are important to understand what sort of weather conditions one can expect during the year if one has to be based there. For physical products, this is an important factor in terms of the conditions required for storage and its shelf life especially if they need to be imported. Connections from the home country to the FDI location in consideration gives one an idea of the accessibility and time taken to travel.
Market size:
The size of the market is, if not the most attractive but is definitely a very important factor for investors. It makes perfect business sense to be based close to your customers and this requires quick delivery and processing time. All this makes it imperative when one talks of physical goods that the market size is a very important determinant for FDI decisions. The top FDI locations in the world today are the ones that have an attractive market size.
The size of the market is also tied up to the demographics of the location and within that, the age of the target market and its levels of consumption are key indicators.
Cost of operations:
The off shoring business model is based on the fact which location offer the best cost arbitrage and this has fueled FDI in many countries. China, India, Mexico are excellent examples that demonstrate this ability. A simple calculation indicates whether the cost of operations in the home country would be cheaper than some other location plus the cost of logistics for the same and this goes beyond the off shoring model.
Infrastructure:
How good is physical and organisation structure, facilities etc. in a particular country is important since one has to estimate the cost and time taken to move goods from one place to another and also arrive at an estimate of the shelf life condition during this process. Also, electricity, telecommunications, internet connectivity are important factors in understanding how much is the country geared up on the infrastructure front. Infrastructure, therefore, is an important factor for any FDI or investment location decision.
Availability of skilled labour:
Labour forms an important determinant for an FDI decision and it is also sector specific. For example, the biotech industry may require skills for Research and Development while the Auto industry may require engineers for its project. Certain industry may require manual labour more for its operations, for example, industries that are based on natural resources. Therefore, whether the particular location has skills that the company requires for its operations is an important question for its investment decision. Quite obviously, the labour pool is inter-related to levels of education the requirements of which are sector specific.
Incentives and Taxation:
The FDI industry is as competitive as any other industry and therefore, countries/regions need to supplement their efforts with an incentive system to attract investors. Common forms of incentives and taxation factors are subsidies, tax credits, cash rebates, tax holidays, subsidized land/ lease rents etc. Although investment or FDI decisions are not entirely based on incentives, they form an important constituent especially in determining how soon would the company start making profits on the investment it makes.
Various other factors are important for investors include levels of bureaucracy, corruption, crime rate and effectiveness of the regulatory regime which are equally significant determinants of the
locations of foreign investment. Having said that, factors also depend on the particular country or countries that are being assessed and the particular sector in consideration. For example, in certain countries where bureaucracy levels are high, investors could place more emphasis on this factor vis-a-vis some other key factor since that could be a big impediment in investing in that particular country compared to lets say, its market size.
For certain sectors such as pharmaceuticals, investors may look at the regulatory regime even though the
value of market is high. For example, for Asian companies, they need to be EU GMP compliant which
is a stringent process to enter the EU market and as a result may be a hurdle to entering that region and having a base there. Compared to the EU, the African or the Latin American market would be easier due to semi-regulatory norms for the pharmaceutical industry.
